Should You Use Colgate-Palmolive (India)'s (NSE:COLPAL) Statutory Earnings To Analyse It?

Statistically speaking, it is less risky to invest in profitable companies than in unprofitable ones. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. This article will consider whether Colgate-Palmolive (India)'s (NSE:COLPAL) statutory profits are a good guide to its underlying earnings.

While Colgate-Palmolive (India) was able to generate revenue of ₹45.4b in the last twelve months, we think its profit result of ₹8.76b was more important. In the chart below, you can see that its profit and revenue have both grown over the last three years.

Check out our latest analysis for Colgate-Palmolive (India)

Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. As a result, we think it's well worth considering what Colgate-Palmolive (India)'s cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Colgate-Palmolive (India).

Examining Cashflow Against Colgate-Palmolive (India)'s Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. While having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Colgate-Palmolive (India) has an accrual ratio of -0.18 for the year to September 2020. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of ₹11b in the last year, which was a lot more than its statutory profit of ₹8.76b. Colgate-Palmolive (India)'s free cash flow improved over the last year, which is generally good to see.

Our Take On Colgate-Palmolive (India)'s Profit Performance

Happily for shareholders, Colgate-Palmolive (India) produced plenty of free cash flow to back up its statutory profit numbers. Because of this, we think Colgate-Palmolive (India)'s underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! And on top of that, its earnings per share have grown at 50% per year over the last three years. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. If you want to do dive deeper into Colgate-Palmolive (India), you'd also look into what risks it is currently facing. Case in point: We've spotted 1 warning sign for Colgate-Palmolive (India) you should be aware of.

Today we've zoomed in on a single data point to better understand the nature of Colgate-Palmolive (India)'s profit. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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